3/12/15: Of Debt, Central Banks and History Repeats

Couple of facts via Goldman Sachs' recent research note:

1. Since the start of 2008, U.S. corporate debt has doubled and the interest burden rose 40 percent. Even as a share of EBITDA, debt servicing costs are up 30 percent, so U.S. corporations’ ability to service debt has declined despite the average interest rate paid by the U.S. corporate currently stands at around 4 percent, as opposed to 6 percent in 2008.
2. Much of this debt mountain has gone not to productive activities, but into shares buybacks and M&As. Per Goldman’s note: “…the changing nature of corporate balance sheets does raise the question, again, about the lack of organic growth and reinvestment post the crisis.”

And the net conclusion? “…the spectre of rising rates, potential global disinflation, declining operating profits and wider credit spreads continues to create near-term consternation for weak balance sheet stocks.”

Source: Business Insider

Oh dear… paging the Fed…

• Meanwhile, per IMF September 2015 Fiscal Monitor, Emerging Markets’ corporate debt rose from USD4 trillion in 2004 to USD18 trillion in 2014. Much of this debt is directly or indirectly linked to the U.S. dollar and, thus, Fed policy.

Oh dear… paging the Fed again…

And just in case you think these risks don’t matter, a quick reminder of what Jaime Caruana, head of the Bank for International Settlements, said back in July 2014 (emphasis mine):

• "Markets seem to be considering only a very narrow spectrum of potential outcomes. They have become convinced that monetary conditions will remain easy for a very long time, and may be taking more assurance than central banks wish to give… If we were concerned by excessive leverage in 2007, we cannot be more relaxed today… It may be the case that the debt is better distributed because some highly-indebted countries have deleveraged, like the private sector in the US or Spain, and banks are better capitalized. But there is also now more sensitivity to interest rate movements."

All of which translates, in his own words into

• "Overall, it is hard to avoid the sense of a puzzling disconnect between the markets’ buoyancy and underlying economic developments globally."

And as per current QE policies?

• "There is something strange about fighting debt by incentivizing more debt."

Which, of course, is the entire point of all QE and, thus, brings us to yet another ‘paging Fed moment’:

• "Policy does not lean against the booms but eases aggressively and persistently during busts. This induces a downward bias in interest rates and an upward bias in debt levels, which in turn makes it hard to raise rates without damaging the economy – a debt trap. …Systemic financial crises do not become less frequent or intense, private and public debts continue to grow, the economy fails to climb onto a stronger sustainable path, and monetary and fiscal policies run out of ammunition. Over time, policies lose their effectiveness and may end up fostering the very conditions they seek to prevent."

Now, take a look at the lengths to which ECB has played the Russian roulette with monetary policy so far: http://trueeconomics.blogspot.ie/2015/12/31215-85-v-52-of-duration-of-risk.html

3/12/15: 85 v 52: Of Duration of Risk Mispricing

One of the causes of the most recent crisis in the euro area is frequently linked to the superficially low interest rates set by the ECB during the period of 2002-2006. Taking historical average rates, the actual period of significant interest rates deviation from the ‘normal’ was between 38 and 52 months, depending on how you measure it.

Since then, of course we’ve learned the lessons… so the current period of ECB rates below their pre-crisis historical average (using 1/2 standard deviation around the mean to control for significance) is… err… 85 months and counting. Oh, and by magnitude, the current deviation is much much worse than the one that caused pre-crisis mispricing of financial assets and risks.

Just check the following chart, updated to today’s ECB call…

Eye popping, no?.. say 52 months to blow the bubble up… 85 months to… 

3/12/15: Irish Services & Manufacturing PMIs: November 2015

Markit released Irish PMIs for November. Here are the highlights:

Services Sector PMI for Ireland stood at 63.6 in November - a significant uplift on October 60.1 reading and the highest reading since September 2006. 3mo average through August 2015 stands at 62.9 while 3mo average through November 2015 is at 62.0. Irish Services sector activity has now been running PMIs above 60.0 (signalling an exceptionally high levels of growth) every month since February 2014. Which, basically, makes these numbers either unbelievable or reflective of heavy biases toward MNCs-led activities in the survey. Not that Markit seems to be concerned and certainly not its paying partners in releasing the survey - Investec.

Manufacturing Sector PMI for Ireland moderated marginally to 53.3 in November from 53.6 in October, pushing 3 mo average through November to 53.6 which is somewhat lower than 55.0 recorded over 3 months through August 2015 and 56.2 3mo average through November 2014.

As the chart below shows, Services and Manufacturing PMIs have both continued to signal strong growth in the economy, albeit the trends in two series have now diverged, starting around February 2015 when Manufacturing PMI trend turned toward toward signalling shallower rates of growth, while Services PMI trend turned more volatile and onto a relatively moderate upward path.

3/12/15: Ifo's Sinn on Draghi's Monetary Acrobatics

Ifo hans Werner Sinn on ECB decision:

Predictable, and entertaining as ever... My view is expressed here and a more in-depth view of the monetary activism effectiveness will be coming soon in my Cayman Financial Review column. Hint: not much of evidence it has been working anywhere... 

3/12/15: BRIC Composite PMIs: November

In two previous posts, I have covered November BRIC PMI (released by Markit):

• For Manufacturing Sector and
• For Services Sector.

Summary table of both here:

Now, consider Composite PMI readings:

Russian Composite PMI came in at 50.5 in November, which marks an improvement on 49.0 reading in October. Per Markit: “…the composite index for Russia returned to expansionary territory in November. At 50.5, up from 49.0, the latest reading was led by the manufacturing sector, which registered its strongest rate of growth in one year.” Composite employment activity contracted. Overall, the pattern since May 2015 has been for a one month of above 50 reading followed by a month of sub-50 reading. Thus, 3mo average through November is now at 50.2, while 3mo average through August is at 49.8. Both compare favourably to the 3mo average through November 2014 which stands at 49.2, but both 3mo averages are weak. In simple terms, Russian economy is bouncing along the bottom of the sub-cycle with no catalyst to the upside.

China Composite PMI came in at 50.5 in November, breaking three consecutive months of sub-50 readings, but posting, nonetheless an extremely weak expansionary reading. 3mo average is at 49.5 through November 2015, down on 50.5 3mo average through August 2015 and down on 51.7 3mo average reading through November 2014. All signs are of a major slowdown in the Chinese growth counting in November. Per Markit: “business activity in China increased for the first time in four months in November. That said, the rate of expansion was only marginal… The renewed increase in overall Chinese business activity was supported by a further rise in service sector activity in November. That said, the pace of expansion eased since October and was only modest. …Meanwhile, manufacturing production stabilised in November, following a six-month sequence of reduction. After a solid expansion in October, total new work placed at Chinese service providers rose only slightly in November. According to panellists, relatively weak market conditions had softened client demand in the latest survey period. Furthermore, September 2015 excepted, the latest increase in new work was the slowest seen in 16 months. In contrast, manufacturing firms saw a further decline in new business during November. Though modest, the decrease in new order volumes at manufacturers offset the increase at service providers, and led to a slight fall in composite new business.”

Indian Composite PMI fell sharply from 52.6 in October to 50.2 in November. On a 3mo average basis, reading through November 2015 is at 51.5 which is marginally better than 5.4 reading in 3mo through August 2015 and down on 51.7 reading in 3mo period through November 2014. Per Markit: “Posting a five-month low of 50.2 in November (October: 52.6), the seasonally adjusted Nikkei India Composite PMI Output Index was indicative of little-change in the level of private sector activity in India. Growth of manufacturing production softened to the slowest in the current 25-month sequence of expansion, while services activity broadly stagnated. …Indian services companies saw demand growth lose strength during November, leading to the slowest rise in incoming new work since July. …Order book volumes in the manufacturing economy increased for the twenty fifth straight month, although at the weakest pace in this sequence.”

Brazil’s Composite PMI remained deep into contraction territory at 44.5 in November, which is an improvement on an abysmal 42.7 reading in September and October 2015. On a 3 mo average basis, reading through November 2015 stands at 43.3, which is below the already weak 43.7 reading for the 3mo period through August 2015 and well below the 49.2 reading through November 2014. November 2015 marks 9th consecutive month of sub-50 readings in the series for Brazil making the Latin American economy the worst performer in the group of BRIC economies for the ninth month running. Per Markit: “Output, new orders and employment shrunk across the manufacturing and service sectors”, with downturn being more pronounced in manufacturing. Overall “weaker contraction in private sector activity” came on foot of “a softer reduction in services output, as manufacturing production dropped at the second fastest pace in 80 months.”

Charts to summarise the trends (note: charts use my own Composite BRIC index based on 100=zero growth line):

The above chart clearly shows that Russia is currently acting as a positive driver for BRIC Composite PMI dynamics. The core downside driver is Brazil.

Summary: per chart above, BRIC economies continued to exert negative pressure on global growth rates in November for the fourth consecutive month running. More importantly, BRIC economies posted growth conditions consistent with slower (than global ) growth since July 2014.  This scenario - of negative impact of BRIC growth on global growth conditions - is likely to remain in place in months to come as all BRIC economies continue to face downside risks to their growth rates.

3/12/15: BRIC Services PMI: November

BRIC Services PMIs are in for November, so let’s take a quick look at the headline numbers:

Russia: 
Russian Services PMI came in at 49.8 in November - a whisker away from 50.0 - and up on 47.8 in October. This marked second consecutive month of sub-50 readings in the series. 3mo average through November is at 49.6, which is weaker than the 3mo average through August 2015 (50.1) but stronger than the 3mo average through November 2014 (47.5). Per Markit: Service sector business activity declined only fractionally in November, although new business contracted for first time in eight months and outstanding business deteriorated further. “With backlogs of work falling, Russian service providers continued to shed jobs during November. Moreover, job cuts have been recorded in every survey period since March 2014. Panel members mentioned a contraction in employee numbers reflected efforts to cut excess capacity”.

China: 
Chinese Services PMI weakened in November to 51.2 from 52.0 in October, with 3mo average through November now at 51.2, down on 52.4 3mo average through August 2015 and on 53.1 average through November 2014. Given that Chinese Services PMI never registered sub-50 reading, current reading is consistent with statistically zero growth. Per Markit release, the index is now in a six=months long trend of falling PMI readings. “After a solid expansion in October, total new work placed at Chinese service providers rose only slightly in November. According to panellists, relatively weak market conditions had softened client demand in the latest survey period. Furthermore, September 2015 excepted, the latest increase in new work was the slowest seen in 16 months.”

India: 
Indian Services PMI posted a significant retrenchment from 53.2 in October to 50.1 in November, effectively signalling zero growth in the sector and falling to the lowest level in 5 months. 3mo average through November is at 51.5, well ahead of current month reading that matches exactly 3mo average through August 2015. 3mo average through November 2014 stood at 51.4. Per Markit: “Sub-sector data indicated that output growth in the Financial Intermediation, Post & Telecommunication, Renting & Business Activities and ‘Other Services’ categories was offset by declines at Transport & Storage and Hotels & Restaurants firms. In fact, the latter recorded a sharper rate of reduction. Indian services companies saw demand growth lose strength during November, leading to the slowest rise in incoming new work since July. Survey members blamed fierce competition and frail economic conditions for the slowdown in growth of new work.”

Brazil: 
Brazil remains the weakest link in the BRIC group in terms of economic activity, with country Services PMI rising to 45.5 in November from 43.0 in October, still signalling sharp contraction in the sector, and marking ninth consecutive month of sub-50 readings. On a 3mo average basis, 3mo average through November was 43.4, which is an improvement on 3mo average through August 2015 (41.3) but down on 3mo average through November 2014 (49.3). Per Markit: “Sub-sector data highlighted a broad-based recession, with output, new business and employment falling across all six monitored categories. Leading services activity to decrease was a further drop in incoming new work, the ninth in as many months. Despite being the softest since August, the rate of reduction was sharp. Evidence from survey participants indicated that demand had been suppressed by the country’s fragile economic situation.”

Summary: Overall, therefore, BRIC services sectors have been performing poorly in November 2015, with no upside to growth form the sector in any economy. Brazil is the weakest performer in the group, with Russia being second weakest. India’s growth momentum of July-October 2015 is now exhausted, while China showing downward trend in Services growth since July 2015.


Next up: Composite PMIs and analysis

3/12/15: Updating that Euro Donkey of Global Growth

While Mario Draghi kept talking justifying the course of ECB policy decisions (or indecisions, as some might want to put), the ECB released staff projections for GDP growth. Here they are, in full glory:

Source: @fwred 

So, that poverty of low aspirations has now been firmly replaced by the circular forecasts: 2015: 1.5% to 1.4% to 1.5%; 2016: 1.9% to 1.7% to 17.%, 2017: 2.1% to 1.8% to 1.9%, whilst inflation expectations are now ‘anchored’ in the proverbial ditch. Meanwhile, Mr Draghi says:

Just as the Euro went through the roof on USD side and with it, Europe's 'exports-led recovery' went belly up.

Though never mind. The bigger headache (that few Europeans can even spot) is that the ECB forecasts are talking about 'growth' at below 2 percent with all this QE and with inflation at extremely low end. Which makes the whole exercise of monetary and fiscal policies activism... err... academic. For as far as I know, no donkeys are allowed to compete in Kentucky Derby. 

2/12/15: BRIC Manufacturing PMI: November

BRIC countries manufacturing PMIs are out via Markit, so here are the main insights:

• Russia: I covered Russian Manufacturing PMI earlier here, with a core conclusion as follows: In November, Russian Manufacturing posted a second monthly reading consistent with weak stabilisation, but virtually no signs of recovery. That said, Russian Manufacturing performance was second strongest in the BRIC group after India’s in November, which is consistent with all readings since July 2015.
• Brazil: In contrast to Russia, Brazil posted another massive deterioration in Manufacturing PMI, with index reading falling to an 80-months low of 43.8 from an already extremely poor reading of 44.1 in October. Overall, we now have 10 consecutive months of sub-50 readings and this dovetails with the latest GDP figures showing Brazil’s economy in a third consecutive quarter of recession at -1.7% in 3Q 2015. Per Markit: “PMI slides further, reaching 80-month low; Production contracts at steep rate amid sharp drop in new projects; Workforce numbers fall at quickest pace since April 2009.” Brazil is now the main laggard in the BRIC group in Manufacturing sector every month since March 2015. Dynamics-wise, things are getting worse: 3mo average through November is at 45.0, which is below 3mo average through August (46.5) and 3mo average through November 2014 (49.0).
• China manufacturing PMI remained below 50.0 mark for the 9th consecutive month in November, posting a reading of 48.6 - marginally better than 48.3 in October. 3mo average through November 2015 is at 48.0, which is marginally worse than 3mo average through August 2015 (48.2) and well below 50.2 3mo average reading through November 2014. Per Markit: “Chinese manufacturing firms signalled that output stabilised in November, thereby ending a six-month sequence of reduction. Meanwhile, total new work continued to decline, and at a similarly modest rate to that seen in October, despite a pick up in new export business growth. Relatively soft overall client demand led firms to scale back their purchasing activity again in November, while inventories also declined. Deflationary pressures intensified over the month, as highlighted by sharper decreases in both input costs and output prices.” China is currently the second weakest BRIC economy in Manufacturing terms every month running, since July 2015.
• India: Continuing to outperform other BRIC, India Manufacturing PMI has, nonetheless, posted a major deterioration in growth conditions in November, falling to 50.3 in November - a 25 months low - from 50.7 in October. 3mo average through November 2015 is at 50.7, below 3mo average through August (52.1) and below 3mo average through November 2014 (52.0).Per Markit: “The health of India’s manufacturing economy improved for the twenty-fifth successive month in November, although to the least extent in this sequence. The latest PMI data showed slower increases in incoming new business and output, while subdued demand growth led firms to keep workforce numbers broadly unchanged. Meanwhile, input cost inflation accelerated to the strongest since May, whereas factory gate prices were raised at a weaker rate that was marginal overall.” Given the historical levels of the series, 50.3 is not statistically distinguishable from 50.0, which implies that statistically, November reading (as well as October) was not consistent with above zero growth. 

Core outrun:

Overall, Manufacturing activity contracted in November across BRIC economies, signalling continued pressure on growth in world’s largest emerging markets. Forward indicators are also weak, with new orders pipeline and backlogs of work being depressed across majority of BRIC manufacturing sectors.

1/12/15: US Mint Gold Coins Sales: November

Following October fall-off, sales of U.S. Mint gold coins rose strongly in November to 135,000 oz by weight (+86.2% y/y) and 237,500 units (+95.5% y/y). These figures include sales of both Eagles and Buffalo coins. Average weight of coin sold also rose strongly to 0.5684 oz compared to 0.4709 oz in October and close to 0.5967 oz/coin in November 2014.

As noted in my note covering October sals, October decline was a correction reflective of volatile demand and also significant uplift in sales in previous months. As chart above shows, sales by weight are now well above period average and above peak period average. In 11 months of 2014, US Mint sold 679,500 oz of gold coins; over the same period of 2015 sales totalled 1,020,000 oz. November 2015 also marked 20th consecutive month of gold sales/price correlations (12mo running) being negative, suggesting strong and entrenched demand from buyers pursuing long hold strategy and taking advantage of improving cost of holding gold. 

1/12/15: Markets at a Lower Edge of Growth

During a number of recent financial conferences that I had an honour of contributing to, the repeated leitmotif of Q&As with the audiences has been: "Where's the value in today's markets?" This is hardly surprising, given the state of prime sovereign fixed income and equities markets (both overbought), corporate fixed income markets (closer to fair valuation, but with elevated spreads and volatility), and commodities markets (depressed by long running fundamentals of demand and supply). Short of investing in 17th century furniture futures or philately options, any investor today will be hard pressed to find a broader theme for a buy-and-hold allocation.

Now, the same anecdotal evidence is confirmed by the Morgan Stanley analysts:

Source: Bloomberg

So equities/fixed income allocations for traditionally structured neutral portfolio have converged in returns for both the U.S. and European markets and at levels not worth taking a punt at. Meanwhile, risk-adjusted returns have all but evaporated:

 Source: Bloomberg

A handful of quotes (all via Bloomberg):

"What is notable for 2016 is that, unlike past years, both our long- and short-term forecasts point to muted equity upside.”

"Having been positive on developed market equities in recent years, it is notable that all of our regional index targets now imply little upside for stocks in 2016. Morgan Stanley’s economists forecast that global GDP growth will nudge slightly higher next year (to 3.3 percent from 3.1 percent in 2015), but our regional earnings forecasts suggest companies are having a tougher time turning modest economic growth into decent profit growth."

"The flatness of the [efficiency] frontier means that the optimal portfolio will lie near the left-hand extreme of the red line for a variety of investor utility functions. Relative to prior later-cycle periods, growth looks weaker, central bank policy looks looser, and credit risk premiums are more elevated."

In summary, then: there is no story of growth and with this, there is no story of financial returns uplift. 

1/12/15: Russian Manufacturing PMI: November

Russian Manufacturing PMI released by Markit remained within near-zero growth territory, posting 50.1 in November, down on 50.2 in October. Overall, some positives and key negatives were:

• Both output and new orders rose at fastest pace in 12 months; 
• Growth conditions in manufacturing remain extremely sluggish; 
• New export orders fell “at sharpest rate in seven months”;
• Workforce continued to contract, as “employment levels have contracted in each of the past 29 survey periods”;
• Most of uplift in production was signed to agricultural sector production rise (Russian grain crop posted second strongest performance at 117 mL tons through early November, after there record 2014 crop);
• Majority of new orders increases took place in domestic markets

So overall, Russian Manufacturing showed repeated signs of weak stabilisation, but virtually no signs of recovery.

1/12/15: Euro area Manufacturing PMI and Forward Growth Indicators

Eurocoin for November - euro area's leading growth indicator - remained basically flat at 0.37, rising only marginally from 0.36 in October. Both months are posting readings below 3mo and 6mo averaged (0.373 and 0.392), signalling growth at around Q2-Q3 2015 average.

In summary: little evidence in growth acceleration from 3Q 2015 levels. It is worth noting that preliminary growth estimate for 3Q 2015 came in at 0.3%, joint-lowest since 2Q 2014 (3Q 2014 growth was identical to 3Q 2015). This stands contrasted to today's Markit Manufacturing PMI for Eurozone which posted a reading of 52.8 for November (moderately strong expansion) up on 52.3 in October.

It is worth noting that both PMIs and Eurocoin have posted over-estimates of actual growth conditions in recent months.